The table below indicates Zona's estimates of L's earnings potential if it came under Lavender's management (in millions of dollars). The interest expense listed here includes the interest: (1) on L's existing debt, which is $ million at a rate of 9%, and (2) on new debt expected to be issued over time to help finance expansion within the new " L division," the code name given to the target firm. If acquired, LL will face a 35% tax rate. Security analysts estimate LL's beta to be x. The acquisition would not change Lyons' capital structure, which is 22% debt. Zona realizes that Lyons lighting's business plan also requires certain levels of operating capital and that the annual investment could be significant. The required levels of total net operating capital are listed in the table. 2 pona estimates the risk-free rate to be 7.2% and the market risk premium to be 4.75%. He also estimates that free cash flows after 2020 will grow at a constant rate of Z%. b. Briefly describe the differences between a hostile merger and a friendly merger. c. What are the steps in valuing a merger? d. Use the data developed in the table to construct the L division's free cash flows for 2016 through 2020. Why are we identifying interest expense separately when it is not normally included in calculating free cash flows or in a capital budgeting cash flow analysis? Why is investment in net operating capital included when calculating the free cash flow? e Conceptually, what is the appropriate discount rate to apply to the cash flows developed in part c? What is your actual estimate of this discount rate? t. What is the estimated horizon, or continuing, value of the acquisition; that is, what is the estimated value of the L division's cash flows beyond 2020? What is L's value to Lavender's shareholders? Suppose anothee firm were evaluating L as an acquisition candidate. Would it obtain the same value? Explain: The table below indicates Zona's estimates of L's earnings potential if it came under Lavender's management (in millions of dollars). The interest expense listed here includes the interest: (1) on L's existing debt, which is $ million at a rate of 9%, and (2) on new debt expected to be issued over time to help finance expansion within the new " L division," the code name given to the target firm. If acquired, LL will face a 35% tax rate. Security analysts estimate LL's beta to be x. The acquisition would not change Lyons' capital structure, which is 22% debt. Zona realizes that Lyons lighting's business plan also requires certain levels of operating capital and that the annual investment could be significant. The required levels of total net operating capital are listed in the table. 2 pona estimates the risk-free rate to be 7.2% and the market risk premium to be 4.75%. He also estimates that free cash flows after 2020 will grow at a constant rate of Z%. b. Briefly describe the differences between a hostile merger and a friendly merger. c. What are the steps in valuing a merger? d. Use the data developed in the table to construct the L division's free cash flows for 2016 through 2020. Why are we identifying interest expense separately when it is not normally included in calculating free cash flows or in a capital budgeting cash flow analysis? Why is investment in net operating capital included when calculating the free cash flow? e Conceptually, what is the appropriate discount rate to apply to the cash flows developed in part c? What is your actual estimate of this discount rate? t. What is the estimated horizon, or continuing, value of the acquisition; that is, what is the estimated value of the L division's cash flows beyond 2020? What is L's value to Lavender's shareholders? Suppose anothee firm were evaluating L as an acquisition candidate. Would it obtain the same value? Explain
